Poor working capital management is one malady faced by most small businesses. It is one aspect business owners shouldn’t joke with if they expect to succeed and build a reliable and sustainable business. It is no faux that as your business grows, so does its sales, inventories, cash, debtors, bank, prepayment, creditors, and accruals.
As this growth – which has been most business owner’s prayers and is good for businesses – continues to happen, small business owners will be faced with the additional challenge of hiring financial managers.
As a small business owner who is practically running the show alone – from decision making, marketing, accounting to payroll management, there comes a time in business when you will not just face this working capital management ‘nightmare’ that has seen many persons out of business but must as well overcome it to ensure your business success and continuity.
Therefore, to ensure you achieve this, it is only wise you get yourself acquainted with how to coordinate and effectively manage your business working capital effectively, pending when you can hire a professional financial manager.
What’s a Working Capital?
Working capital is that part of your business capital used for the day to day running of your business or firm. It is the hob where your profit and loss are hinged. Working capital management, on its own, entails the financing and management of your business current assets and liabilities.
In managing your working capital, which simply deals with the way you handle your current assets and current liabilities, it is your responsibility to ensure that you hold current assets that are only sufficient in the running of your business.
For instance, a business whose current assets equals N19300, and with current liabilities of N17500 is barely left with working capital of N1800 – which is not inadequate, considering that its current assets are slightly higher than its current liabilities. Using the formula Current Asset – Current Liabilities = Working Capital
From the above illustration, you can see that the goal of working capital management is to effectively ensure that your business is liquid enough to settle its liabilities and able to finance and run its affairs per day, month or year.
However, in a bid to do this, a lot of business owners tend to take more overdraft, delay payment to creditors, generate more bad or irrecoverable debt, and carry excess cash, which is not good for the business health.
Let’s take a more individualistic view on the component of your business current asset and current liabilities and how you should manage them:
Creditors are people you owe. In managing creditors, it is advisable that you take care of them, but not to the detriment of your business profit. I know a lot of you practically prefer delay paying back. Some of you even invest the money meant for such payment with the hope of turning it over before paying. This is not totally wrong if your investment yields a good profit. However, you should also consider the ‘bad will’ that comes from such an act should your investment cast.
Also, if you insist on delayed payment, then you should at least try to create a good relationship between your business and the creditor or firm through things like a gift, effective communication, more contract to them, etc. You should also try to reduce the number of creditors by paying off smaller credit and make sure that old credits are cleared before new ones.
These are simply people owing you. Do not underestimate what managing your debtors can do to your business. Management of debtors is very crucial as any mistake in this area leaves your business with a huge increase in bad debt.
So to get this right, you have to encourage quick and fast payment by offering discounts. Especially cash discounts to customers who pay on the spot. While you work on reducing credit sales, use automatic invoicing systems, put in place multiple payment methods like cash, credit card, online payment, etc. This will make sure you collect your cash faster.
This is one important working capital every business owner should learn how to manage effectively. Cash is supposed to be held moderately. As opposed to what most small business owners do. They pride themselves in carrying a large sum of money in cash. This behavior in cash management is a no-no. It doesn’t make sense.
Cash is the most inferior of all your assets. This is why it is placed last in the balance sheet. Aside from that, you holding a lot of money in cash simply means you are subjecting those cash to idleness. Asides from that, there are a lot of disadvantages in holding a large chunk of money in cash. These include theft, misappropriation, fraud and depreciation.
So next time you think of carrying excessive money in cash, remember the three motives of holding money according to Keynes’s theory (transactional, speculative, and precautionary).
Also, remember that the best way to manage cash effectively is by creating a cash budget for your business. This way, you will be sure to carry only the cash required for running your business at any given time.